GE to buy Smiths Group unit for $4.8 billion

Firms also to set up joint venture for detection operations

By

AudeLagorce

LONDON (MarketWatch) -- General Electric on Monday agreed to buy the aerospace business of Britain's Smiths Group for $4.8 billion in cash as it seeks to further capitalize on the airline industry's return to health and robust U.S. military spending.

The U.S. firm has also signed a letter of intent to combine its homeland protection division with Smiths' detection unit in a joint venture called Smiths GE Detection. The combined business, of which Smiths will own 64% and GE the remaining 36%, will have a strong focus on airport security devices.

The acquisition of Smiths' aerospace assets signals GE's determination to cash in on record new plane orders and the accompanying surge in demand for flight management technology and aircraft components. The U.S. firm said the new business satisfies its long-held ambition of going "beyond the engine" and will complement its existing aviation division to create a $16 billion giant.

Shares in Smiths (SMIN) rallied 11.7% in London afternoon trading, after gaining as much as 17% earlier in the day. GE
GE, +1.82%
shares closed down 0.1% on Friday. U.S. markets were closed on Monday for Martin Luther King Jr. holiday.

Meanwhile Smiths, which has been under pressure to revamp and has recently started to break up its assets, said it would return 2.1 billion pounds ($4.1 billion) of the proceeds to shareholders.

Ian Broadhurst of Fortis private investment management observed that, owing to GE's habit of paying a full price for acquisitions, a counterbid was unlikely.

GE goes 'beyond the engine'

GE said the deal would broaden its offerings to its aerospace customers in areas such as flight management and airborne platform computing systems. GE's current aviation unit focuses largely on engines.

"GE Aviation is growing about 10% a year and this acquisition gives us a technology growth platform that will be accretive to our net income and will deliver immediate and future value for our investors," Immelt said.

He added that the breadth of platforms offered by Smiths means GE is unlikely to have to make further acquisitions in the sector in the medium term.

"We can grow organically on this [Smiths'] set of platforms," he said in a presentation to analysts Monday morning.

Fortis' Broadhurst said Smiths' aerospace division was "extremely well placed, having major contracts with Boeing
BA, +3.77%
Lockheed Martin
LMT, +0.09%
and others" but lacked the scale for long-term independence.

The acquisition is subject to regulatory approval, but Immelt said he doesn't expect anti-trust issues and was looking forward to "a constructive process" with E.U. regulators. He stressed GE's vast experience in that area, noting that the group has cleared 16 deals in Europe since 2001.

"We are pretty expert at the way the approval process works," he said.

The companies have agreed to a break-up fee of about $110 million.

Smiths hit by mushrooming development costs

Smiths has been a secondary supplier of landing-gear parts, propellers and other aircraft components for commercial and military plane makers, including Boeing Co. and EADS (005730), the parent of Airbus. The aerospace division has more than 11,000 employees and posted revenue of $2.4 billion in 2006. See more global markets coverage.

But the unit has suffered from a surge in development costs related to a flurry of new projects from Boeing and Airbus.

"The structure of the aerospace industry is changing -- in particular its increased capital requirements and the growing importance of supplier scale, especially as the next generation of large programs kicks in," Smiths Chief Executive Keith Butler-Wheelhouse said.

Butler-Wheelhouse, who has agreed to delay his retirement by four months to see the deal through, said the sale of the unit would "crystallize" its value for shareholders, generate improved returns on capital and boost margins.

The return of 2.1 billion pounds to shareholders out of the estimated 2.25 billion pounds generated by the sale is equivalent to 37% of Smiths' market capitalization as of Jan. 12. But Butler-Wheelhouse said the company remains well placed to make acquisitions worth up to 500 million pounds.

Smiths said it had held talks with parties other than GE before agreeing to sell the division to the U.S. firm.

Detection JV to focus on airport security

Regarding the detection joint venture, GE said it expects a definitive agreement to be signed in the second quarter. Smiths' detection division is larger than GE's, with about 2,000 employees to the U.S. firm's 700, but has smaller margins.

The venture will focus on airport security, which will account for about 56% of sales. Demand for scanning devices around the world has exploded since the terrorist attacks of Sept. 11, 2001.

Airports have different technology requirements and the two companies see their expertise as complementary.

"Today's announcement is a big step in aligning our detection team with a business that has complementary technologies and creates a joint venture that will be able to offer a full-service suite of detection solutions on a global basis," said Louis Parker, CEO of GE Security.

The joint-venture's portfolio will include machines able to detect explosives and also chemical, biological and radioactive substances.

GE's Immelt said the company was very happy with the deal, even though it won't control the joint venture, whose board will have four members from Smiths and two from GE.

"You can't grow a company our size without knowing how to use JVs and partnerships," he said.

Smiths to keep medical-device business

In addition to the airplane parts and detection division, Smiths owns a subsidiary that makes medical devices. Butler-Wheelhouse suggested the group is less keen to sell that unit, stressing that the $200 billion global medical device industry remains "largely unconsolidated."

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